Will the rule be effective in publicly shaming companies, as is the apparent intent? It could be, but public shaming has its limits. The U.S. has been requiring companies to reveal how much they pay their CEOs since the 1930s, and CEO pay continues to soar even with that transparency. The Economic Policy Institute, a left-leaning think tank, calculates the current CEO-to-worker pay ratio to be in the neighborhood of 300:1; in 1978, it was 30:1. Previous efforts to reduce executive compensation have been “based on the assumption that those who had asked for that kind of money were capable of that kind of embarrassment,” Charles Elson, a professor at the University of Delaware told The Washington Post. “And they weren’t.”
But the bigger problem is that the ratio isn’t very useful in the first place. “The bottom line is that this is one of the sillier and more pointless disclosures that I have ever seen,” David Yermack, a professor of finance at NYU’s Stern School of Business, told me.
Why is that? As Kevin Murphy, a professor of finance at USC’s Marshall School of Business, explains, it’s not a useful yardstick across companies. “Ironically, the ratio will not be as high for Goldman Sachs and other firms where the median ‘worker’ is a highly paid professional—for example, Goldman will have a lower ratio than JPMorgan Chase, because the latter has commercial banks and the median worker is likely a teller,” he says. Similarly, ratios could look very different for fast-food companies than they will for tech companies, or banks, or media conglomerates.
And the reason that the SEC usually issues disclosure rules—to help investors make trading decisions—hardly applies here. The pay ratio could turn out to be some unexpectedly reliable indicator for company performance, but it most likely will not.
Of course, the reasons that some people and organizations stake their faith in the new rule are not all bad. Labor advocates say it’s a good thing that workers can glance at a publicly available document and see how their company stacks up. (However, it is not fully clear how much this differs from the current situation, in which a CEO’s pay is publicly disclosed and workers can easily compare it to their own.) And the strategy of public shaming isn’t entirely without merit—consumers seem to care. A paper from researchers at Harvard Business School found that a company with a 1,000:1 CEO pay ratio needed to charge 50 percent less for its products in order for consumers to view them as favorably as full-price products from a company with a 5:1 ratio, when that information was visible.
One thing that the supporters of this rule are right about is that companies and pro-business lobbyists are likely exaggerating how much it will cost to comply with some parts of the rule, according to Michael Ohlrogge, a Ph.D. candidate studying management science at Stanford. It may be burdensome for some companies to conform to in its first year—when large companies tabulate the compensation of all their workers, including those overseas and at their subsidiaries—but the costs will drop significantly after that.